Sebi may soon frame a policy for the stock exchanges to go through a stress test to prepare them for handling ‘flash crash’-like situations, where a sharp plunge in some stocks leads to across-the-board panic sale. The market regulator is currently working out a policy on the stress test for the stock exchanges, as well as other market infrastructure institutions like clearing corporations, a senior Sebi official said.
The proposed stress test would prepare the bourses for handling situations where any sharp fall in share prices of one stock, possibly because of a freak or wrongly-entered trade order, can result in panic-selling by investors.

In addition to freak trades, the stress test would also measure the stock exchanges’ preparedness for situations when any sharp plunge in any one stock, due to reasons like negative news flows such as frauds and scams, can affect the broader market sentiment, the official added.

At times, flash crash is also known as ‘fat-finger trade’ because of such cases generally being attributed to wrong pressing of orders on trading terminals.

India had one such ‘flash crash’ in June, 2010, while the US markets witnessed a similar, but far worse, scenario on May 6 of the same year.

On June 1, 2010, a presumably freak trade pulled down the share price of Reliance Industries by nearly 20 per cent, while the benchmark index Sensex also fell by more than 400 points within minutes to a one-year low.

In the US flash crash, the benchmark Dow Jones index fell by over 900 points, or about 9 per cent.

The US market regulator had later proposed safeguards like circuit-filters to tackle such cases and is still working on a concrete and long-term solution.

The Indian market already has circuits in place to avoid any large-scale fall. These circuits come into effect at a relatively high level of at least 10 per cent movement in the case of indices. There are no circuits at all for blue chip stocks.

Sources said that Sebi began the process of framing a policy on the stress test many months ago when the regulatory body had C B Bhave as its chairman, but some market players are said to have resisted the move at that time.

Senior Sebi officials had even discussed the possible safeguards against flash crash-like situations among themselves, as well as with outside experts.

However, it could not reach any concrete conclusion and now the current Sebi chairman U K Sinha, who assumed office in February, has decided to take forward the matter afresh.

Besides a fresh policy on the stress test, Sebi would also look at framing standard system audit systems for the stock exchanges and depositories.